IMF softens China yuan stance to "moderately undervalued"

An employee counts Chinese 100 yuan banknotes at a branch of Industrial and Commercial Bank of China in Huaibei, Anhui province, July 6, 2012.

Reuters/Stringer

BEIJING The International Monetary Fund softened its stance on the Chinese yuan to "moderately undervalued" against a basket of currencies, and lowered its medium-term forecast for the current account surplus to between 4 percent and 4.5 percent of GDP, in an annual review released on Wednesday.

China has substantially reduced external imbalances but at the cost of significant domestic imbalances fuelled by its investment-driven growth model, the IMF said in the report.

The review indicated that the Chinese currency, after years of appreciation, is finally coming into balance, but warned of risks if investment were to slow sharply or if a sharp economic slowdown were to lead to a rise in non-performing loans.

The IMF's view is that the exchange rate still has a "non-trivial" way to appreciate, Markus Rodlauer, the deputy director of the IMF's Asia-Pacific department, told reporters on Wednesday. He did not give an exact value.

By contrast, the Chinese authorities believe it is close to equilibrium, pointing to recent two-way trading in the forwards market, the IMF acknowledged.

"The exchange rate issue is just one part of a package of reforms needed to rebalance the economy," Rodlauer said, ticking off a number of reforms including better pricing signals, more financial investment options and a shift from investment-led to consumer-led growth.

Without those reforms, "it will be very likely that the current account surplus will go up again, not to where it was before but more than it was now," he added.

"Gradual appreciation will be necessary in upcoming years."

Externally, China's biggest risk comes from the ongoing crisis in Europe, the IMF said, adding that it expects Chinese economic growth to moderate manageably 8 percent, above the government's target of 7.5 percent but in line with market expectations.